When flipping taxes may trip up property developers

While the internet is full of property gurus offering ‘expert’ guidance on making money from property, few mention the tax bills that investors may encounter if they are successful in building a portfolio or ‘flipping’ property by adopting a fast-turnover approach of buying, renovating, and selling. 

When there is a gain on the sale of a property that is not someone’s main private residence, they may find themselves with a bill for Capital Gains Tax (CGT) if it exceeds their annual allowance. CGT is due when an individual sells an asset and makes a gain on the original price, with tax on the gain payable at a rate of 18% for basic rate taxpayers and 28% for higher rate taxpayers. 

Generally, capital gains tax is not due on property where it is someone’s main home, but the tax could become due if a property is sold or transferred for a profit within 36 months of being bought. The aim is to guard against using short-term property ownership to evade tax obligations. 

Even if capital gains tax is not due, if property is being renovated and sold on for profit in a fast turn-around, investors are likely to find themselves paying income tax when the development may be considered as their ‘trade’.

Two recent cases brought by HMRC highlight the dangers of being tax-ignorant when it comes to property investing and development. One saw a homeowner faced with a £1million bill for income tax and penalties on profits from buying, renovating, and selling three properties within five years. HMRC argued his activities had the hallmarks of a property development trade, meaning the gains would be taxable as trading profits.

Although this homeowner was a builder, he maintained that his work was on a smaller scale than these major renovations, and that the fast turnover was due to family and financial issues, not the desire for trading profits.

He successfully appealed to the First-tier Tax Tribunal, also avoiding capital gains tax on the disposals, showing that all three properties were used as family homes and each house was furnished and occupied with the intention of residency being permanent.

Less successful in his appeal was the second example, who made £260,000 on buying and renovating four properties in five years. He lived at one of the properties for 9 months, when it was already up for sale, but claimed that he was entitled to private residence relief because he was living in job-related accommodation elsewhere, to take care of his father who suffered from dementia. The Upper Tax Tribunal dismissed the argument that he was entitled to private residence relief,  which meant that capital gains tax was due on the gains, although they disagreed with HMRC’s claim that he was trading as a property developer.

Property flipping is a term used to describe making a quick profit on a fixer-upper, but it is also used frequently to describe when someone assigns another property they own to be their principal private residence, which can be a useful planning device to maximise the available exemptions for capital gains tax.

Those owning second homes or buy to let property who are anticipating a sale in the next year or two, may consider bringing forward the timing of the disposal to beat the reduction in the tax-free allowance for CGT. The allowance reduced in 2023-24 from £12,300 to £6,000 and falls to just £3,000 in 2024-25.

For conveyancing support with your property sale, PLS solicitors offer trusted advice and up-to-date understanding of legal and tax implications.

Source: LawNet